3 Benchmarks farmers and lenders need to know

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Tue, 2014-03-11 15:23

Waning commodity prices, particularly in the grain and row crop industry, and years of increasing variable and fixed costs, especially farmland, have brought the potential for negative margins to many producers. However, the livestock industry, which has struggled in recent years, appears to be in position to profit, build equity and liquidity. Regardless, there are three benchmarks every producer and lender needs to know when handling the moderating grain industry and the positive economics of the livestock sector.

The three metrics that need to be reviewed with your lender are the current ratio, net working capital and working capital to gross revenue ratio. These can all be calculated by examining the top half of the balance sheet. Many lenders still analyze financial liquidity, or the ability to generate cash without disrupting normal operations, using the current ratio (current assets divided by current liabilities). How do you measure up? FINBIN data summarized by the Center for Farm Financial Management at the University of Minnesota, which includes data from over 10 states and thousands of producers, finds median current ratio was a strong 2.28 to 1. The low 20% of producers showed a ratio of 1.50 to 1, which is still respectable. The high 20 percent group had a median current ratio of 3.02 to 1. Will a couple of years of negative margins result in significant declines in this ratio? My guess is yes!

Net working capital (current assets minus current liabilities) is another number producers need to know. These current assets could be inventory, receivables, prepaid expenses, cash, etc. The low 20% of producers had net working capital of slightly over $50,000. The median value was approximately $270,000, while the high 20% of producers in the database came in at over $1,250,000 net working capital.

Finally, the third metric in the spotlight is the net working capital to gross farm revenue ratio. The low 20% reported 17% working capital to revenue. Median was 35% and the high group had 52% of working capital to revenue. While analysis of this data would suggest the top half of the balance sheet is in a strong position, how quickly a strong position could evaporate will be on the minds of virtually every producer and lender examining this winter’s balance sheets.

P.S. I suggest that you not only examine this year specifically, but conduct a three- to five-year trend analysis to ascertain direction and subsequent strategies.